International Trade
- Submitted by: siuyan
- Views: 673
- Category: Other
- Date Submitted: 12/29/2010 03:56 AM
- Pages: 4
- Report this Essay
Introduction
International trade acts an important role in the today’s human society. Firms have had to face such a problem which is how to avoid the risks caused by the fluctuations of exchange rate. Currency hedging can eliminate the FX risk. However, whether currency hedging adds firm market value, the academic question has dispute until now. In this essay, it is going to provides my arguments regarding the statement which is ‘currency hedging adds firm market value’, and prove it with academic research. After that, some strategies of managing the currency exposure will be discussed.
Currency hedging adds firm market value
Multinational companies often trade between countries. It takes time for exporters (importers) to receive (pay) money. Because the exchange rates are keep changing all the time. Multinational Corporations do not know the precise figures they are going to pay or receive. This variable situation is called uncertainty. Currency hedging usually eliminates the currency risk.
Firstly, airlines always are sensitive to the exchange rate of currency which they use to buy the oil. In the airlines industry, because the fuel price is highly correlated to the investment opportunities, benefit of hedging with relation to oil price would be the reduction in underinvestment costs which company refusing to invest in the low-risk assets.
Secondly, from the perspective of the Modigliani-Miller theorem, hedging does not change the value of the firm, if hedging merely reduces the idiosyncratic risk not to lower the firm’ taxes. However, in a progressive taxation system, hedging might reduce the expected payment of taxes, increasing firm's after-tax income. For example, the interest payment from money market hedging can reduce tax payment. Obviously, there is a positive impact on firm value.
Thirdly, in the real world special risk within a firm can reduce its value. A company face bankruptcy will pay a great deal of money on lawyer, accountants, and...
International trade acts an important role in the today’s human society. Firms have had to face such a problem which is how to avoid the risks caused by the fluctuations of exchange rate. Currency hedging can eliminate the FX risk. However, whether currency hedging adds firm market value, the academic question has dispute until now. In this essay, it is going to provides my arguments regarding the statement which is ‘currency hedging adds firm market value’, and prove it with academic research. After that, some strategies of managing the currency exposure will be discussed.
Currency hedging adds firm market value
Multinational companies often trade between countries. It takes time for exporters (importers) to receive (pay) money. Because the exchange rates are keep changing all the time. Multinational Corporations do not know the precise figures they are going to pay or receive. This variable situation is called uncertainty. Currency hedging usually eliminates the currency risk.
Firstly, airlines always are sensitive to the exchange rate of currency which they use to buy the oil. In the airlines industry, because the fuel price is highly correlated to the investment opportunities, benefit of hedging with relation to oil price would be the reduction in underinvestment costs which company refusing to invest in the low-risk assets.
Secondly, from the perspective of the Modigliani-Miller theorem, hedging does not change the value of the firm, if hedging merely reduces the idiosyncratic risk not to lower the firm’ taxes. However, in a progressive taxation system, hedging might reduce the expected payment of taxes, increasing firm's after-tax income. For example, the interest payment from money market hedging can reduce tax payment. Obviously, there is a positive impact on firm value.
Thirdly, in the real world special risk within a firm can reduce its value. A company face bankruptcy will pay a great deal of money on lawyer, accountants, and...